Updated World Bank Analysis: Crisis, Finance, and Growth

January 21, 2010

  • Globally, GDP growth is improving, but it will be a long road to full recovery
  • The strength of the recovery will depend on private-sector demand and the pace of withdrawal of fiscal and monetary stimulus
  • An estimated 64 million more people may be living in extreme poverty by the end of 2010 due to the crisis

January 21, 2010—Nit Ponpaengpa, a widowed grandmother who works as a massage therapist in Bangkok, had her wages cut by a third at one of the city’s spas last year. After a difficult search, she found a new job and things have improved. She is on call to work three times a week for a former client, in return for which she earns a decent retainer fee, school tuition for her grandson, and the flexibility to take on other clients.

It was really hard to live on 200 baht (approximately 6 USD) a day when I had to buy food and milk for a child, and still had to pay rent as well as other expenses,” said the 50-year-old grandmother, recalling the difficulties of reduced wages before she found her new job. “I never had any money left back then. Now I can relax a little bit and save a little bit every month.”

Unfortunately, this situation is not permanent. Nit’s new employer says she will soon have to cut down on Nit’s services and wages. When that happens, Nit’s income will fall significantly. At age fifty, Nit is no longer competitive in the job market, yet a full ten years away from qualifying for senior benefits. She faces a perilous future for herself and her young grandson.

Rising poverty, shrinking funds

Across the world, there are tens of millions of stories such as Nit’s—and some far worse—each echoing the pain of a historically deep and synchronized recession, in which virtually no country has remained untouched by the bursting of a global financial bubble, and the poorest remain the most vulnerable.

A new World Bank report, “Global Economic Prospects 2010: Crisis, Finance, and Growth,” notes that the crisis is having serious cumulative impacts on poverty, with 64 million more people expected to be living in extreme poverty by the end of 2010 than would have been the case without the crisis, according to updated analysis.

An increase in poverty has serious implications for the governments of poor countries, who face shrinking revenues at the very time when demands on them are growing,” said Andrew Burns, the report’s lead author. “Just when a bigger effort is needed to protect vulnerable people, some governments may be forced to scale back existing programs.”

In fact, the poorest countries—those that rely on grants or subsidized lending—may require an additional $35 billion to $50 billion in funding just to maintain pre-crisis programs, according to World Bank chief economist and senior vice-president for development economics, Justin Lin.

The tragic human cost of the financial crisis is already becoming painfully apparent. Researchers Jed Friedman and Norbert Schady estimate, for instance, that between 30,000 and 50,000 additional children may have died of malnutrition in Africa in 2009 because of the crisis.

Recovery underway, but a long road ahead

While the world economy is now emerging from the crisis, and GDP growth rates are starting to improve, the report warns that growth may in fact slow later this year as the growth impact of stimulus packages wanes, and that it will be years before jobs are restored and spare industrial capacity reabsorbed.

Global GDP, which declined by 2.2 percent in 2009, is expected to grow 2.7 percent in 2010 and 3.2 percent in 2011 . World trade volumes, which fell by a staggering 14.4 percent in 2009, are projected to expand by 4.3 and 6.2 percent this year and in 2011, according to the report.

The strength of the recovery will depend on consumer and business-sector demand picking up and the pace at which governments withdraw fiscal and monetary stimulus,” said Burns. “If this is done too soon, it might kill the recovery; yet waiting too long might re-inflate some of the bubbles that precipitated the crisis.”

Developing countries are expected to make a relatively robust recovery, with 5.2 percent GDP growth in 2010 and 5.8 percent in 2011—up from 1.2 percent in 2009. Rich countries, which declined by 3.3 percent in 2009, are expected to grow less quickly—by 1.8 and 2.3 percent in 2010 and 2011.

Performance across the developing world has been varied. The recession has been severe in Europe and Central Asia, while, in contrast, growth continues to be relatively strong in East Asia and the Pacific. South Asia and the Middle East and North Africa have escaped the worst effects of the crisis, while Sub-Saharan Africa has been hard hit, with the outlook for the region remaining uncertain.

In Latin America and the Caribbean, where stronger fundamentals have helped the region to weather this crisis much better than past ones, the devastating earthquake in Haiti is bound to have a huge economic cost for that country, although it is too early to make specific estimates.

Boom, crisis, and beyond: implications for developing countries

The report finds that very relaxed international financial conditions from 2003 to 2007 contributed to the boom in developing country finance and growth seen just before the crisis. With inexpensive capital, developing countries were able to sustain high growth without generating significant inflation.

However, these conditions were clearly unsustainable in the long run, the report notes, and it is neither desirable nor feasible to recreate them after the crisis. International capital costs will therefore be higher and investment rates lower over the next several years when compared with the pre-crisis boom period.

Foreign direct investment (FDI) inflows are projected to decline from recent peaks of 3.9 percent of developing country GDP in 2007 to around 2.8 to 3 percent over the medium term. This has serious implications, as FDI represents as much as 20 percent of total investment in Sub-Saharan Africa, Europe and Central Asia, and Latin America.

While scarcer, more expensive capital is unavoidable for the foreseeable future, developing countries would benefit strongly in the long term from reducing domestic borrowing costs, and promoting local capital markets by expanding regional financial centers and improving competition and regulation in local banking sector,” said Hans Timmer, Director of the Bank’s Development Prospects Group.

Although such reforms might take time to yield results, they could put developing countries back on a higher growth track, Timmer concluded.